Viatris Issues 2021 Financial Guidance Below Expectations, Impacted by Greater than Anticipated One-Time Costs; Adjust FVE to $21 per Share (From $23 per share), Maintain BUY rating

• On February 22, 2021, Viatris Inc. (NYSE: VTRS) issued initial 2021 financial guidance, which includes revenue of $17.2 – $17.8 billion, adjusted EBITDA of $6.0 – $6.4 billion, and free cash flow of $2.0 – $2.3 billion.
• In addition, the company proposed an initial annual dividend payment of $0.44 per share ($0.11 per share quarterly) while targeting a $6.5 billion reduction in outstanding debt. It is expected that the first quarterly dividend will be paid in June 2021.
• We acknowledge that the 2021 guidance is below our initial expectations (revenue, margin, and dividend), however we suggest that 2021, which includes non-recurring charges (primarily restructuring related), is setup to be a trough year and suggests longer-term operational and dividend payout upside as these costs dissipate. We think the much lower than expected cash flow guidance will be the major overhang on shares this morning (shares are down approximately 12% in early trading).
• The lower than previously thought cash conversion (EBITDA to FCF) is primarily impacted by the $1.5 billion in “one-time” cash costs necessary to realize synergies. While those charges will not completely disappear next year, commentary suggests they will significantly decline, and all charges related to this restructuring should not recur following year three. Further, it is expected that the company will begin to realize some of the $1.5 billion in targeted synergies as we move through the year (guidance does include $500 million in synergy benefits in 2021).
• When considering the “one-time” costs, and synergy capture opportunities, an adjusted FCF estimate of $2.6 billion could be derived for 2022 when estimating that 33% of one-time costs are not repeated in year 2 as well as an additional capture of 25% of the targeted $1.5 billion in synergies is realized (management targets total $1.5 billion synergy capture over three years; see Exhibit in this UPDATE). Under this scenario, a more normalized annual dividend payment between $0.55 and $0.62 per share could be expected in 2022, assuming management maintains its stated payout policy of at least 25% of FCF.
• We adjust our earnings estimates to incorporate 2020E pro-forma revenue as a base. In the spirit of conservatism, we model the low end of revenue guidance in 2021, and flat sales in 2022. Based on a 38% EBITDA margin, ahead of 2020 guidance of ~35% at the midpoint, we now forecast 2022 EBITDA of $6.6 billion.
• We adjust our fair value estimate to $21 per share (previously $23 per share), which is based on an average of 7.5x our 2022 EBITDA estimate and a 2.5% yield on a normalized dividend of $0.55 per share (which includes reduced one-time costs, but no synergy benefits).
• Given anticipated merger benefits, which include a more diversified product portfolio and distribution network, along with margin expansion opportunities and dividend growth, combined with the upside to our revised FVE, we maintain our BUY rating.
• For more details, please refer to The Spin Off Report dated August 26, 2020, and UPDATEs dated November 16, 2020.

ARKO signs MOU with EV charging developer Chakratec; preliminary pilot to begin in 2022 with the goal of nationwide deployment by 2030

• Today, Arko announced the signing of a memorandum of understanding (MOU) with Chakratec, an Israeli-based developer of electric vehicle (EV) charging technology, to distribute kinetic storage systems for fast charging electric vehicles.
• For context, Chakratec’s energy storage systems can charge electric vehicles (EVs) in less than 15 minutes (with a range of up to 150 miles).
• While ARKO management continues to think that the mass adoption of electric vehicles is still “many years away”, particularly in its non-metro/rural-focused footprint, due, in part, to the outdated electrical infrastructure in many states across the U.S this agreement marks a “first step” toward adapting to the longer-term eventuality.
• As part of the MOU, Arko and Chakratec will begin a preliminary pilot program in the U.S. in 2022 with the goal of an “extensive deployment of fast charging points for electrical vehicles throughout North America by 2030.
• Our fair value estimate for ARKO remains $13 per share, reflecting a blended multiple of ~10.5x on 2022E adj. EBITDA of $240 million and net debt of ~$574 million (see Exhibit #2 on page 2).

On February 16, 2021, Rexnord Corp. (NYSE: RXN), before the market open, announced that the company intends to separate its Process & Motion Control (PMC) segment via a tax-free spin-off to RXN shareholders. Immediately following the distribution, the PMC business will merge with Regal Beloit Corp. (NYSE: RBC) in a Reverse Morris Trust (“RMT”) transaction. Following the merger, RXN shareholders will continue to own RXN, which will own 100% of the Water Management (“WM”) segement, as well as approximately 38.6% of the new Regal, with current Regal shareholders controlling the remaining 61.4%. The transaction is expected to be completed in 4Q 2021.

Rexnord Corp., which generated $2.0 billion in revenue and $432 million in adjusted EBITDA in calendar year 2020 (RXN previously operated on a March fiscal year), in its current corporate structure, is a diversified industrial company that operates under two segments: Process & Motion Control (~67% of revenue and ~64% of EBITDA) and Water Management (~32% of revenue and ~36% of EBITDA). PMC provides products and services to assist in a wide range of automation and motion control applications for industrial, consumer goods and aerospace applications. Products include montion control products, shaft management products, areospace components, and related “value-added services”. WM provides products and platforms for commercial and industrial construction markets, as well as to municipal waste and wastewater treatment as well as residential construction markets. Water Management products include water control and safety, water distribution and drainage, amongst others, primarily for the non-residential end market.

For its part, Regal Beloit, which generated $2.9 billion in revenue and $472 million in adjusted EBITDA in 2020, manufactures industrial products that include electric motors, mechanical motion control, and power generation products. The company’s products are sold into the residential, commercial, and OEM markets, with customers operating in the HVAC, automotive, aerospace, and oil and gas industries.

PRELIMINARY VALUATION

The potential for a transaction between the two companies was reported by Bloomberg in early January 2020, and from a strategic point of view it appears to make sense in that the PMC business competes directly with RBC’s motion control business, which will give the merged company increased scale. RBC management cites reduced cyclicality of its post-merger portfolio and $120 million in annualized cost synergies by year three ($70 million in year one) as the main benefits of the merger. For RXN, the company will retain the higher margin WM business (~26% EBITDA margin versus ~23% EBITDA margin for the PMC segment) and likely receive a re-rating higher as a pure play entity. Water focused peers trade at a premium to diversified industrial peers. Watts Water Technologies Inc. (NYSE: WTS), A. O. Smith Corp (NYSE: AOS), and Pentair PLC (NYSE: PNR) currently average 15x the 2022 consensus EBITDA estiamte. Diversified industrials with a focus on motion products such as Parker-Hannifin Corp (NYSE: PH), Kennametal Inc. (NYSE: KMT), and ABB Ltd (NYSE: ABB), ammongst others currently trade on average at approximately 12.5x the 2022 consensus EBITDA estimate. RXN and RBC currently trade at 11.8x and 10.5x their respective 2022 consensus EBITDA estiamte.

Based on management commentary, RBC would have generated pro forma revnue of $4.1 billion and EBITDA of $740 million of adjusted EBITDA. Based on 2022 guidance, it is assumed that the company increases sales by about 5% annually and margins widen to 20.5%, primarily attributable to the aforementioned cost synergy estimates, implying adjusted EBITDA of $927 million. Applying an 11.5x multiple and accounting for current net debt, and 67.5 million shares outstanding following the RMT, shares of post-merger RBC are preliminarily fairly valued at $150 per share. Note that the the 11.5x multiple is a discount to peers to reflect integration risk, however is a full turn improvement from the current trading multiple.

On a pro forma basis, post-spin RXN would have generated $768 million in revenue and operated with an adjusted EBITDA margin of 26.8%. Assuming a historical revenue growth rate of ~5.5%, it can be forecast that following the spin-off, RXN would generate $830 million in revenue and $220 million of EBITDA (operating with a 26.5% EBITDA margin). Applying a 14.0x multiple (low end of the peer group) to the post-spin RXN, and incorporating current shares outstanding and net debt, post spin shares of RXN would be fairly valued at $17 per share. Incorporating the 38.6% owenrship of post-merger RBC, on pre-spin basis, shares of RXN are fairly valued at $49 per share.

IFF Reports 4Q 2020 Results, Issues 2021 Guidance; Maintain BUY rating, Increase FVE to $154 per share

• On February 10, 2020, after the market close, International Flavors & Fragrances Inc. (NYSE: IFF) released 4Q and full year 2020 results. On a currency neutral basis, 4Q revenue increased 2% when adjusting for an extra operating week in the prior year period. The increase was a result of the Taste segment sales low single digit decline being offset by a high single digit increase at the Scent segment. 4Q operating profit declined 8.6%, which was primarily attributable to the Taste segment volume declines more than offsetting cost reduction initiatives.
• On a full year basis, revenue increased 1%, reflecting a 4% increase at Scent and a decrease of 1% at Taste. 2020 operating profit declined 6.5% with a 3% increase at Scent and a 10% decrease at the Taste segment.
• Initial 2021 guidance was issued, which calls for revenue of $11.5 billion and adjusted EBITDA margins of 23.2%. Recall IFF completed its merger with DuPont Inc.’s (NYSE: DD) Nutrition & Bioscience (N&B) business on February 1, 2021. 2021 guidance incorporates $507 million in sales from N&B. On a proforma basis, IFF would have generated $11.1 billion in sales and operated with a 22.1% adjusted EBITDA margin in 2020 if the N&B transaction had occurred on January 1, 2020.
• Separately, it was reported by Reuters that Sachem Head Capital Management LP has amassed a ~$1 billion position in IFF and nominated four directors to the company’s board. It is said that the activist investor is looking to improve “financial performance and integrate the new unit smoothly”.
• We adjust our estimates and fair value to incorporate 2021 guidance and current peer multiples. We now forecast 2022 revenue and EBITDA of $12.1 billion and $2.8 billion, respectively. We increase our valuation multiple to 18x (previously 17x) on our 2022 EBITDA estimate and now fairly value IFF at $154 per share.
• With the post-merger company’s market position strengthened by a presence in key growth markets (e.g. probiotics, protein solutions), coupled with the potential to extract further cost synergies, we see the potential for improved growth and profitability going forward. While COVID-19 remains a concern, it should be noted that approximately 85% of IFF’s portfolio serves end markets that remain in high demands with COVID-19, including food, beverage, hygiene and disinfection.
• With a positive outlook on top line growth, margin improvement from the merger with N&B, and the involvement of an activist investor, we continue to look favorably on IFF shares, especially considering its current trading multiple. Shares of IFF trade at 13.6x our 2022 EBITDA versus peer average of ~18.5x consensus despite forecasted margins exceeding the high end of the peer group.
• We maintain our BUY rating on IFF. For more details, please refer to The Spin Off Report dated August 17, 2020, and UPDATE dated January 4, 2021.

THC Reports 4Q, Full-Year 2020 Results; 2021 Guidance Ahead of Our Forecast; Maintain BUY rating, Increase FVE to $58 per share

• On February 9, 2020, after the market close, Tenet Healthcare Corp. (NASDAQ: THC) released 4Q and full year 2020 results, which included full-year consolidated revenue of $17.6 billion, a decrease of 4.5% versus the prior year, and adjusted EBITDA of $2.2 billion (excluding COVID-related grant income), a decrease of 17.7%, as the company experienced a significant impact on operations from the COVID-19 pandemic, particularly earlier in the year.
• Notably, 4Q 2020 results showed revenue and adjusted EBITDA growth across the Hospital and Ambulatory care segments despite admissions/same-facility cases still exhibiting year-over-year declines. For its part, Conifer also saw positive 4Q trends while margin expansion was a result of internal cost reduction initiatives.
• THC provided initial 2021 guidance, which, on a consolidated basis, included total revenue of $19.2 – $19.6 billion and adjusted EBITDA of $2.9 -$3.1 billion. (Segment specific guidance is detailed in an Exhibit on page 2).
• Additionally, the company announced that it plans to retire $478 million of 7% senior unsecured notes that are due in 2025, which will result in $33 million in annual interest expense savings.
• Management has updated the timeline for the planned Conifer spin-off, which now will be completed in mid-2022; notably, 15% shareholder holder, Glenview Capital Management, issued a statement of support for the revised transaction timeline.
• We view the current trends of COVID-19 cases, and the increasing percentage of the U.S. population being vaccinated as positives for the Ambulatory and Hospital segments outlook for admissions and same facility case metrics, which we believe will drive 2021 revenue growth. Further the SCD ambulatory care portfolio acquisition results in a greater percentage of revenue being derived from higher margin sources, which we do not believe is fully discounted in the current share price.
• For Conifer, we view revenue stabilization in the 4Q and management’s ability to contain costs, which resulted in full-year margins equal to the prior year, despite the full year-over-year revenue decline, as a positive. The segment guidance calls for essentially flat segment revenue and EBITDA in 2021. We continue to believe that the revenue cycle management business is undervalued within the current consolidated corporate structure, and the eventual spin-off will result in a rerating of the business, thus unlocking value.
• We adjust our earnings estimates for the post-spin entities to reflect the recent results and management’s 2021 guidance. Additionally, we adjust our post-spin fair value estimates based on current balance sheet and peer multiples. Our revised estimates for Conifer and post-spin THC are based on the low-end of managements 2021 guidance, and modest top line and margin growth in 2022.
• We now value shares of pre-spin Tenet Healthcare Corp. at $58 per share (previously $57 per share) and maintain our BUY rating.
• For more details, please refer to The Spin Off Report dated January 26, 2021.

Guidance Highlights from ECN’s Investor Day: 2021E EPS outlook tweaked to $0.46-$0.51 (from $0.44-$0.53) and 2022E EPS guidance introduced at $0.55-$0.64; fair value increases to C$9.00 per share (from C$8.50 per share)

• On a consolidated basis, at its annual investor day, ECN backed its most recent 2020E EPS guidance of $0.31-$0.33, tweaked its 2021E guidance to $0.46-$0.51 (previously $0.44-$0.53), implying more than 50% growth at the mid-point, and introduced initial 2022E EPS guidance of $0.55-$0.64, implying an additional ~25% growth. (For context, these figures compare with our previous 2020-2022 EPS forecasts of $0.31, $0.45 and $0.60, respectively.)
• At Service Finance (SFC), management forecasts 2021 originations of $2.5-$2.7 billion (compared with ~$2.1 billion in 2020) will drive segment sales of $160-$175 million with adj. operating income and EBITDA of $100-$108 and$106-$114 million, respectively, implying EBITDA margins of 65%-66%.
• At Triad, ECN expects 2021 originations of $950 million-$1.15 billion (compared with ~$700 million in 2020) will drive segment sales of $85-$95 million with adj. operating income and EBITDA of $39-$44 million and $44-$49 million, respectively, implying an EBITDA margin of ~52%.  Notably, the company launched its Bronze (i.e. sub-prime) lending program in January 2021 but its origination guidance only incorporates an about $50 million impact.
• At Kessler Group (KG), the company projects 2021 segment sales of $82-$90 million with adj. operating income and EBITDA of $46-$52 million, respectively, implying a steady EBITDA margin of ~60%.
• All told, it remains our view that ECN has undergone an underappreciated transformation from a primarily “on-balance-sheet” lending business to an asset-light, fee-based operating model and that at less than 9.0x 2022E EPS remains undervalued, particularly relative to the growth prospects of its core originations business (as well as the potential incremental contribution from a nascent, fee-based referral businesses over the next several years).
• Our fair value estimate increases to C$9.00 per share (from C$8.50), reflecting a blended multiple of ~9.5x on 2022E adj. EBITDA of US$228.5 million (previously US$220.5 million) and net debt of US$515 million or a ~11x P/E multiple on 2022E EPS of US$0.62 (previously US$0.60) as well as a USD/CAD conversion rate of 1.3x.

Operating leverage persists in 3Q F2021; fair value increased to $510 per share (from $460 per share)

• UHAL reported 3Q F2021 sales up 26% to $1.169 billion while operating income and EPS jumped to $283.8 million and $9.33, respectively, from $$80.6 million and $1.58 in the prior year period.
• At the core-Moving & Storage segment, sales increased ~28% to $1.085 billion, reflecting a ~30% increase at Moving and a 15% rise at Storage. Operating income more than tripled to $264 million while EBITDA, by our calculation, increased ~80% to $416.6 million.
• At quarter-end, UHAL had net debt of ~3.279 billion (compared with $3.485 billion at the end of 2Q F2021 and ~$4.13 billion at the end of F2020) and a net leverage ratio of ~2.4x, by our calculation.
• As mentioned in previous notes, we think the recent, primarily pandemic-driven, slowdown in spending at UHAL, particularly on real estate, and the seeming two-year runway back toward “normalization” augurs well for continued improvements in profitability (and investor sentiment); to that end, capital spending at Storage, primarily aimed at footprint expansion, has roughly halved in F2021, which, in part, drove a 19% increase in average occupied units in 3Q F2021 as well as an improvement in average monthly occupancy, which stood at 73.4% in 3Q F2021 (vs. 71.9% in 2Q F2021, 67.6% in 1Q F2021, 69.5% in the prior year period and 66.1% at year-end F2020). These improvements, coupled with increases in utilization at Moving, resulted in operating and EBITDA margin expansion at the core-Moving & Storage segment to 23.6% and 37.2% in 3Q F2021, respectively, from 7% and 26.4% in the prior year period.
• Our fair value estimate is increased to $510 per share (from $460 per share), reflecting an ~8.5x multiple on F2022E Moving & Storage EBITDA of $1.53 billion (previously $1.425 billion), the insurance assets at book value and net debt of ~$3.3 billion.
• That said, we may make further adjustments following this morning’s conference call at 10 a.m. (ET).

DD Announces Final Exchange Ratio for RMT with IFF; Maintain NEUTRAL Rating and Raise FVE to $75 FVE on DD; Maintain BUY Rating and $150 FVE on IFF

• On February 3, 2021, before the market open, DuPont Inc. (NYSE: DD) announced the final results of its exchange offer in connection with the split-off of its Nutrition & Biosciences (N&B) business.
• DuPont accepted 197.4 million shares of DD shares, which were tendered for shares of N&B at an exchange ratio of 0.7180. N&B shares were immediately exchanged for shares of International Flavors & Fragrances Inc. (NYSE: IFF) on a one-for-one basis.
• We adjust our earnings estimates for post-merger IFF and post-split DD to account for updated share counts and the most recent revenue and margin trends. Additionally, we have moved our earnings estimates out to 2022.
• We now forecast IFF to generate $11.9 billion in revenue and $2.9 billion in EBITDA in 2022. Valuing shares at 17.0x our 2022 EBITDA estimate, a slight discount to peers such as Symrise AG (SY1 GR) and Kerry Group PLC(KYG ID), we fairly value IFF at $150 per share.
• We maintain a BUY rating on post-merger IFF. With IFF’s market position strengthened by a presence in key growth markets (e.g. probiotics, protein solutions), coupled with the potential to extract further cost synergies, we see the potential for improved growth and profitability going forward. While COVID-19 remains a concern, it should be noted that approximately 85% of IFF’s portfolio serves end markets that remain in high demands with COVID-19, including food, beverage, hygiene and disinfection.
• DD is now forecast to generate $14.8 billion in revenue and $4.0 billion in EBITDA in 2022. Shares of DD are now fairly valued at $75 per share, which is derived by applying a 12.0x multiple to our 2022 EBITDA estimate. The 12.0.x multiple is a 1.0x premium to the average multiple of a peer group of industrial and specialty chemical focused companies.
• With the DD fair value estimate roughly in line with the current share price, we rate shares at NEUTRAL, owing to concerns over continued top line weakness and potential risk to forward estimates. While the split-off makes strategic sense, the divesture of this high-margin business will reduce the company’s profitability going forward.
• For more details, please refer to The Spin Off Report dated August 20, 2020.

VRNT Completes the Spin-Off of Cognyte Software; Adjust Post-Spin VRNT FVE to $57, Rate at BUY; Rate CGNT at NEUTRAL with $34 FVE

• On February 1, 2020, after the market close, Verint Systems Inc. (NASDAQ: VRNT) complete the spin-off of its cyber intelligence business. The new standalone company has adopted the corporate moniker Cognyte Software Ltd.
• VRNT shareholders of record received one share of Cognyte Software for every share of Verint held as of January 25, 2021. Shares of Cognyte began trading on the NASDAQ on February 2, 2021, under the symbol “CGNT”.
• We adjust our CGNT earnings estimates to better reflect managements latest commentary on projected revenue growth and margin profile. The company targets low-to-mid-teens revenue growth rates by FY24, with EBITDA growing at 20% in the same year. Widening EBITDA margins will be a function of managements expectations that an increasing percentage of business will be generated from software versus services.
• We also adjust our valuation multiple on CGNT to reflect the current market premium being assigned to “cyber-security” focused companies such as FireEye Inc. (NASDAQ: FEYE).
• We now fairly value Cognyte Software Ltd. at $34, which is derived by applying a 18x multiple to our F2022 EBITDA estimate of $134.5 million. We note that our valuation implies a 5.2x EV/sales multiple.
• Given the limited upside to our fair value estimate from initial trading levels, we rate Cognyte at NEUTRAL.
• We fairly value shares of post-spin VRNT at $57 per share based on a 15x multiple of our F22 EBITDA estimate of $249 million and incorporating $483 million in net debt and 69.5 million shares outstanding.
• We rate post-spin VRNT at BUY. We view the F24 targets of revenue in excess of $1 billion and 90% software recurring revenue as achievable in the current market, with the non-recuring revenue decline slowing as a positive.  With shares currently trading at ~12x our F22 EBITDA estimates we view shares as attractively priced to capture a rerating on the business.
• For more details, please refer to The Spin Off Report dated October 20, 2020.

Legion Partners increases active stake in OSPN to 6.8% (from 5.6%); 4Q 2020 results due February 23rd

• Yesterday, after the market close, Legion Partners filed an updated 13D indicating its stake in OSPN had increased to 6.8% (from 5.6%); the additional ~440K shares were purchased between 1/4/2021-1/26/2021 at prices ranging from $20.85-$24.44 per share.
• For context, in November 2018, Legion disclosed a ~5% position (purchased at prices ranging from ~$16.60-$17.95) in a 13D that broadly asserted the shares were undervalued. In August 2020, Legion, then a ~5.6% holder (at an estimated average price of ~$18 per share), issued a public letter to OSPN’s Board recommending: (1) improved financial disclosures (and guidance); (2) a strategic review to evaluate the divestment of OSPN’s hardware segment; (3) a strategic review to evaluate the monetization of other assets (e.g. OneSpan Sign); and (4) the resignation of T. Kendall Hunt, the company’s founder and former chairman/CEO, from the Board.
• Legion has, to date, been successful in obtaining improvements in financial disclosure (seemingly with more to come) as well as the “retirement” of Mr. Hunt. As well, while making no specific commitments, management indicated on the 3Q 2020 conference call that it would “take a look” at options for the Hardware business, which would, at the very least, include some operational streamlining, in terms of product set and headcount. Additionally, while the company stated that it “looks at our portfolio of solutions constantly trying to really assess what is the right way for us to maximize value’” it also added that it would not be “appropriate” to publicly discuss “private M&A activity” (and that the hardware remained an “important business” for OSPN).
• OSPN expects to report 4Q 2020 results after the market close on February 23 with a conference call that evening at 4:30 p.m. (ET).
• Our fair value remains $32 per share, which values OSPN’s Hardware business at 2.5x 2022E EBITDA, applies sales multiples of 1.0x and 8.5x to the company’s legacy/non-recurring licensing and core/recurring software & services businesses, respectively, and accounts for ~$120 million of projected net cash.